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August 21, 2007

Prepare for Recession: Just in Case

The recent financial crisis highlights the need to prepare for recession. Now, I'm NOT forecasting a recession. But the risk is there, and we economists are not real good at predicting just when a recession will occur.

Mark Thoma, in my interview with him, suggested thinking in terms of a recession story. That is, what's the chain of events that would lead to recession. That story changes from time to time. Earlier this year, the riskiest story had consumers cutting back sharply on their spending because of the housing price decline. Today's riskiest story is a bit different: the subprime crisis leads to excessive caution in other markets, preventing credit-worthy companies and individuals from getting loans. I don't think that's going to happen, but if a little bird whispered in my ear that we were headed into recession, this would be the most likely explanation.

So what do you do with the story? First, see where you stand in the story line. If you don't rely on credit in your business, the impact on you will be through the general economic recession. This is garden variety stuff; it's what my book is all about.

But if your business is critically dependent on credit, and if that credit is not locked in, then you are at the front-end of the recession, not the back end. Think of yourself as the lighting rod attracting the deadly charge. Examples: less-than-investment grade companies that need to roll over commercial paper every three months. Or a business too small for Wall Street that banks would sniff at as risky if things turned down. If this is you, today is a good time to lock in your credit lines. Last month would have been an even better time. (Hope that's useful information.)

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